A few months ago, I opened a Washington Mutual account because they were offering excellent interest rates on both their certificates of deposit[3] and their high yield savings accounts[4]. We’re talking 4% numbers, 5% for the CD, in an period of 3% averages, it was pretty meaty stuff.

At the time, I was focusing on FDIC insurance and how it would protect your funds. Your principal was not at risk. A scant month or so later, WaMu fails. JP Morgan Chase assume the deposits, all of which were insured, and things are as they ever were. Then the online savings interest rate, which is never guaranteed, falls. I didn’t have a CD so I don’t know if the CD rates were honored by JP Morgan Chase but they didn’t have to be.

When a bank fails and is assumed by another bank, with the FDIC as an intermediary, the new bank does not have to honor the former bank’s certificate of deposit rates. The CD is normally a contract but in this particular case, either party can cancel it at will. The new bank can change the interest rate but the CD owner can redeem the CD early without penalty. Sometimes they honor it, sometimes they don’t, it all depends on how badly they want those deposits and at what price. When a bank is struggling, it often increases those rates to get more deposits and the new bank may not want to pay above market interest rates for no good reason.

But, if Bank A buys or merges with Bank B, it must honor all of Bank B’s contracts – which includes CDs. In a failure, Bank B goes first to the FDIC and then to Bank A, which is why they don’t need to honor CDs. If it’s a purchase or merger, they are required to honor them because they purchased the contracts when they purchased the bank.

Knowing what I know now, I’d avoid the hassle of opening up an account with a bank that’s been in the news as having liquidity issues (fortunately none of the big banks left have been in the news for this). It’s a crapshoot as to whether you’ll have your CDs honored (when Citi Wells Fargo acquired Wachovia [I can't keep these failures straight!], it was a purchase and thus CDs were honored; when JP Morgan Chase “acquired” WaMu, it was a failure and CDs didn’t have to be honored) and the bottom line is that it’s simply not worth it.

I earned an extra percent or two of interest for a few months in return for the hassle of opening and then subsequently closing an account. Not worth it.